Petition for Writ of Mandamus - Filed - Supreme Court of Texas

Item 11. Cost of goods sold (COGS)
Note: A taxable entity may elect to use COGS to compute margin
ONLY if the taxable entity sells real or tangible personal
property in the ordinary course of business OR if the taxable
entity qualifies to compute COGS under any one of the
exceptions noted in Texas Tax Code Section 171.1012 or
Rule 3.588. Enter an amount ONLY if the entity qualifies to
use COGS to compute margin.
"Goods" are defined as real or tangible personal property sold
in the ordinary course of business. Tangible personal property
includes computer programs as well as films, sound recordings,
videotapes, live and prerecorded television and radio
programs, books and other similar property. Tangible personal
property does not include intangible property or services.
Generally, a taxable entity in the service industry will not
have COGS as they do not sell tangible personal property
or real property in the ordinary course of business. However,
if a transaction contains elements of both a sale of tangible
personal property and a service, a taxable entity may only
subtract as COGS the cost otherwise allowed by this section
in relation to the tangible personal property sold. The
taxable entity may not subtract as COGS the labor costs
related to the services performed.
A taxable entity may make a subtraction under this section
in relation to the COGS only if that entity owns the goods. A
taxable entity that is a member of a combined group may
subtract allowable costs as COGS if the goods for which
the costs are incurred are owned by another member of
the combined group. A payment made to an affiliated entity
who is not a member of the combined group may only be
included in COGS if the transaction is made at arm's length.
A taxable entity that is subject to Internal Revenue Code,
263A, 460 or 471 may choose to expense or capitalize
allowable costs associated with the goods purchased or
produced. All other taxable entities will expense allowable
costs associated with the goods purchased or produced.
Expensing COGS — An entity that elects to expense
allowable costs will have no beginning or ending inventory.
The entity should include all allowable costs as described
below for the accounting period on which the report is based.
Capitalized COGS — If the entity elects to capitalize COGS,
the calculation will include those allowable costs that were in
inventory at the beginning of the period upon which the tax is
based plus allowable costs capitalized during the period minus
allowable costs in ending inventory at the end of the period.
The election to expense or capitalize allowable costs is
made by filing the franchise tax report using one method or
the other. The election is for the entire period on which the
report is based and may not be changed after the due date
or the date the report is filed, whichever is later.
Note: Generally COGS for Texas franchise tax reporting purposes
will not equal the amount used for federal income tax
reporting purposes or for financial accounting purposes.
Typically, this amount cannot be found on a federal income
tax report or on an income statement. It is a calculated
amount specific to Texas franchise tax.
Cost of goods sold includes all direct costs of acquiring or
producing the goods, including:
• labor costs including W-2 wages, IRS Form 1099 wages,
temporary labor, payroll taxes and benefits;
• cost of materials that are an integral part of specific
property produced;
• cost of materials that are consumed in the course of
performing production activities;
• handling costs, including costs attributable to processing,
assembling, repackaging and inbound transportation;
• storage costs (except for the rental of a storage facility),
including the costs of carrying, storing or warehousing
property;
• depreciation, depletion and amortization reported on the
federal income tax return on which the report under this
chapter is based, to the extent associated with and
necessary for the production of goods, including recovery
described by, Sec. 197, Internal Revenue Code, and
property described in Sec. 179, Internal Revenue Code;
• the cost of renting or leasing equipment, facilities or real
property used for the production of the goods, including
pollution control equipment and intangible drilling and dry
hole costs (does NOT include impairment costs/expenses);
• the cost of repairing and maintaining equipment, facilities
or real property directly used for the production of the
goods, including pollution control devices;
• costs attributable to research, experimental, engineering and
design activities directly related to the production of the
goods, including all research or experimental expenditures
described by Sec. 174, Internal Revenue Code;
• geological and geophysical costs incurred to identify and
locate property that has the potential to produce minerals;
• taxes paid in relation to acquiring or producing any
material, or taxes paid in relation to services that are a
direct cost of production;
• the cost of producing or acquiring electricity sold; and
• a contribution to a partnership in which the taxable entity
owns an interest that is used to fund activities, the costs of
which would otherwise be treated as COGS of the
partnership, but only to the extent that those costs are
related to goods distributed to the contributing taxable entity
as goods-in-kind in the ordinary course of production
activities rather than being sold by the partnership.
In addition to the items listed above, COGS includes the
following costs in relation to the taxable entity's goods:
• deterioration of the goods;
• obsolescence of the goods;
• spoilage and abandonment, including the costs of rework,
reclamation and scrap (does NOT include impairment
costs/expenses);
• if the property is held for future production, preproduction
direct costs allocable to the property, including storage
and handling costs, unless specifically excluded below;
• postproduction direct costs allocable to the property,
including storage and handling costs, unless specifically
excluded below;
• the cost of insurance on a plant or a facility, machinery,
equipment or materials directly used in the production of
the goods;
• the cost of insurance on the produced goods;
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